Choosing an Adjustable Loan That Is Right for You

By Alan Rosenthal

When purchasing a real estate investment, you want to select a mortgage rate that fits your budget, accomplishes your goals and will not leave you surprised or in financial jeopardy. There are three types of adjustable loans offered: teaser, subprime and option adjustable. Let’s take a look at the benefits and disadvantages of each.

A teaser adjustable rate mortgage (ARM) initially has a low monthly interest rate which will later reset and adjust to market values. The problem with the reset is that when the low introductory period expires, borrowers might be shocked at the increase in price as it changes to market value.

The common types of teaser loans are the 11th District Cost of Funds Index (COFI), the one-month London Interbank Offered Rate (LIBOR), the 12-month moving Treasury average (MTA), and the constant maturity Treasury (CMT). COFI indexes are month to month but tend to adjust slower. They are also based on the Federal Home Loan Bank’s 11th district, which includes California, Arizona and Nevada. With LIBOR indexes both borrowers and lenders share the risk, because the rates are based on at what cost London banks borrow from reserves and rise and fall more rapidly. MTA loan rates, also known as MAT for monthly average Treasury, are based on the U.S. Treasury’s monthly report. CMT rates are similar to the MTA’s but are based on the U.S. Treasury’s yearly report. These rates, like LIBOR’s, change quickly. Teaser rates can be very dangerous if the rates jump from, say, 2% to 7%.

Two important factors when dealing with are the index and the margin. The index is the rate of market forces. You can choose between rate averages or spot rates, the former with gradual changes and the latter with more abrupt ones. The margin is the agreed percentage amount added to the index to equal your rate.

The next type of loan is the subprime ARM which has very few advantages for the borrower. Lenders approve loans for people who might not qualify for a loan otherwise such as those with low incomes or bad credit. The interest rates start out very low for the first 2-3 years. The downside is that the rates increase abruptly, leaving people already in financial difficulty in a worse condition. In recent times, subprime loans have been directly associated with foreclosures due to borrowers not being able to keep up with rate payments.

The last loan is the option ARM. These loans are more appealing than the others because of their flexibility. With option adjustable, the borrower can then choose between loan payments that are interest-only, specified minimum or 15 to 30-year fixed rate. This loan is geared toward people who do not have set incomes, such as those self-employed. Another benefit is that it offers initial low interest rates and low minimum payments while maximizing deductions on mortgages and minimizing income taxes.

The problem with ARMs is negative amortization – when a borrower pays less than full interest in any given month. The amount left is added to the total amount owed. If the amortization reaches a maximum, the borrower is in big trouble because the minimum payment could rise to the amortization of the balance. The worst-case scenario is if the increase reduces the property’s equity or the value declines.

Basically when buying an investment property the three factors you need to look at when choosing an adjustable loan, payment plans and the potential for negative amortization. If you make an informed decision, you will end up with a great investment and fewer problems.

To learn more about how Real Estate Investments can help secure your family's financial future, go to Dr. Alan Rosenthal's website at FinancialHealthRealEstate.com where you can find more great investment information. And while you're there, please sign up for your FREE Financial Health Real Estate Starter Package full of tips, newsletters and much more. Plus, you are cordially invited to attend one of his real estate investment workshops by visiting FinancialHealthRealEstate.com/UpcomingEvents.html. For additional information listen to one of Dr. Alan Rosenthal’s investment talks at FinancialHealthRealEstate.com/InvestmentTalks.html.


Home About Dr. Rosenthal Rave Reviews Upcoming Events Credit Repair Solutions Articles and Resources Products Ask Dr. Rosenthal Schedule an Appointment FAQs Blog Contact Us	Choosing an Adjustable Loan That Is Right for You By Alan Rosenthal When purchasing a real estate investment, you want to select a mortgage rate that fits your budget, accomplishes your goals and will not leave you surprised or in financial jeopardy. There are three types of adjustable loans offered: teaser, subprime and option adjustable. Let’s take a look at the benefits and disadvantages of each. A teaser adjustable rate mortgage (ARM) initially has a low monthly interest rate which will later reset and adjust to market values. The problem with the reset is that when the low introductory period expires, borrowers might be shocked at the increase in price as it changes to market value. The common types of teaser loans are the 11th District Cost of Funds Index (COFI), the one-month London Interbank Offered Rate (LIBOR), the 12-month moving Treasury average (MTA), and the constant maturity Treasury (CMT). COFI indexes are month to month but tend to adjust slower. They are also based on the Federal Home Loan Bank’s 11th district, which includes California, Arizona and Nevada. With LIBOR indexes both borrowers and lenders share the risk, because the rates are based on at what cost London banks borrow from reserves and rise and fall more rapidly. MTA loan rates, also known as MAT for monthly average Treasury, are based on the U.S. Treasury’s monthly report. CMT rates are similar to the MTA’s but are based on the U.S. Treasury’s yearly report. These rates, like LIBOR’s, change quickly. Teaser rates can be very dangerous if the rates jump from, say, 2% to 7%. Two important factors when dealing with are the index and the margin. The index is the rate of market forces. You can choose between rate averages or spot rates, the former with gradual changes and the latter with more abrupt ones. The margin is the agreed percentage amount added to the index to equal your rate. The next type of loan is the subprime ARM which has very few advantages for the borrower. Lenders approve loans for people who might not qualify for a loan otherwise such as those with low incomes or bad credit. The interest rates start out very low for the first 2-3 years. The downside is that the rates increase abruptly, leaving people already in financial difficulty in a worse condition. In recent times, subprime loans have been directly associated with foreclosures due to borrowers not being able to keep up with rate payments. The last loan is the option ARM. These loans are more appealing than the others because of their flexibility. With option adjustable, the borrower can then choose between loan payments that are interest-only, specified minimum or 15 to 30-year fixed rate. This loan is geared toward people who do not have set incomes, such as those self-employed. Another benefit is that it offers initial low interest rates and low minimum payments while maximizing deductions on mortgages and minimizing income taxes. The problem with ARMs is negative amortization – when a borrower pays less than full interest in any given month. The amount left is added to the total amount owed. If the amortization reaches a maximum, the borrower is in big trouble because the minimum payment could rise to the amortization of the balance. The worst-case scenario is if the increase reduces the property’s equity or the value declines. Basically when buying an investment property the three factors you need to look at when choosing an adjustable loan, payment plans and the potential for negative amortization. If you make an informed decision, you will end up with a great investment and fewer problems. To learn more about how Real Estate Investments can help secure your family's financial future, go to Dr. Alan Rosenthal's website at FinancialHealthRealEstate.com where you can find more great investment information. And while you're there, please sign up for your FREE Financial Health Real Estate Starter Package full of tips, newsletters and much more. Plus, you are cordially invited to attend one of his real estate investment workshops by visiting FinancialHealthRealEstate.com/UpcomingEvents.html. For additional information listen to one of Dr. Alan Rosenthal’s investment talks at FinancialHealthRealEstate.com/InvestmentTalks.html. ©2008 Financial Health Real Estate, Inc.